Block B · Fixed income segments

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Bonds are debt capital; money is lent against interest and repayment; the segments differ by issuer (who owes?), structure (how is it paid?), maturity (for how long?) and credit quality (how safe?).

13 · Government bonds (Bund, Treasuries)

Definition: Bonds of sovereign states in their own currency; Bunds (German federal bonds) and US Treasuries are the reference ("risk-free" rate) of their currency area.

Use: Safety anchor, liquidity reserve, collateral, precise duration management of the portfolio.

Opportunities: Highest liquidity; crisis protection (flight to quality); no spread risk.

Risks: Full interest rate risk; negative real return under inflation; currency risk with foreign currency government bonds.

Typical mistake: Confusing "risk-free" with "price-stable"; long-dated Bunds lost over 20% in the 2022 rate rise.

14 · Supranationals (EIB, World Bank)

Definition: Issuers owned by several states or carrying a state guarantee; mostly rated AAA/AA.

Use: Quasi-sovereign quality with a small yield pickup over Bunds; large green bond supply.

Opportunities: Spread pickup without meaningfully more credit risk; ESG selection.

Risks: Lower liquidity than Bunds; spreads can widen.

Typical mistake: Equating agency status with an explicit state guarantee without checking; the forms of liability differ.

15 · Corporate bonds investment grade

Definition: Bonds of companies rated BBB-/Baa3 or better.

Use: Core return building block of defensive portfolios; predictable income above government bond levels.

Opportunities: Spread over sovereigns; a huge universe for diversification.

Risks: Spread widening in recessions; downgrade risk (fallen angels); thinner liquidity in stress phases.

Typical mistake: Overlooking the BBB cluster; the lowest IG notch now makes up a large part of the IG market.

16 · High yield

Definition: Rated BB+/Ba1 and lower; higher coupons as compensation for a higher probability of default.

Use: Deliberate yield addition; partial equity substitute with a more defined payoff profile.

Opportunities: High running yield; shorter duration than IG.

Risks: Real defaults; high correlation to equities in a crash; illiquidity.

Typical mistake: Booking the yield as certain; expected losses from defaults must be deducted.

17 · Pfandbriefe/covered bonds

Definition: Bank bonds with double protection; the issuer is liable AND a legally protected cover pool (mortgages, public sector loans). Pfandbriefe are the German covered bonds.

Use: Conservative building block just above government bond yields; regulatorily privileged.

Opportunities: Very high safety (no Pfandbrief default in Germany in over 100 years); stable market.

Risks: Small spreads; full interest rate risk; cover pool quality varies internationally.

Typical mistake: Treating covered bonds of all countries as equally safe; the legal frameworks differ.

18 · Bank bonds (senior preferred/non-preferred)

Definition: Unsecured bank debt; senior non-preferred ranks below senior preferred in the liability cascade and is bail-in-able first in resolution.

Use: Yield pickup in the financials sector; choose the cascade level to match the risk budget.

Opportunities: Spread pickup; wide selection.

Risks: Bail-in regime (BRRD); sector concentration; regulatory intervention.

Typical mistake: Confusing SP and SNP; same issuer, markedly different loss risk in resolution.

19 · Subordinated bonds (Tier 2)

Definition: Subordinated bank capital, mostly with fixed maturity; in insolvency served only after all senior creditors.

Use: Higher yield with a plannable maturity; for risk-tolerant fixed income allocations.

Opportunities: Substantial spread pickup.

Risks: Subordination; disproportionate price losses in banking stress; call uncertainty.

Typical mistake: Looking at yield to maturity instead of yield to worst.

20 · CoCos/AT1

Definition: Perpetual bank capital with call dates; coupons can be cancelled without make-up, and if capital ratios fall below thresholds, write-down or forced conversion looms (Credit Suisse 2023: full write-down).

Use: Only for professionals with a clear understanding of the risk; a yield source with equity-like loss potential.

Opportunities: Very high coupons.

Risks: Coupon cancellation without back payment; trigger loss up to total loss; extension risk (the call is skipped).

Typical mistake: Booking AT1 into the conservative fixed income budget.

21 · Convertible bonds (convertibles)

Definition: A bond with the right to convert into shares of the issuer; a combination of bond and equity call option.

Use: Asymmetric profile; participate in equities on the upside, bond cushion on the downside ("convexity").

Opportunities: Upside participation with a safety net.

Risks: Complex valuation; the cushion erodes as credit quality deteriorates; low coupons.

Typical mistake: Screening convertibles by yield; what matters are delta, conversion premium and bond floor.

22 · Inflation-linked bonds (linkers)

Definition: Coupon and redemption linked to a consumer price index; quoted is the real yield.

Use: Purchasing power protection; hedging against UNEXPECTEDLY high inflation; real-value logic in reporting.

Opportunities: Direct inflation protection; diversification versus nominal bonds.

Risks: Rising real rates depress prices; below breakeven inflation worse than a nominal bond; tax complexity.

Typical mistake: Linkers protect only relative to the inflation expectation already priced in (breakeven), not "always".

23 · Floaters (floating rate)

Definition: Coupon = reference rate (3M Euribor, ESTR etc.) + fixed spread; reset mostly quarterly.

Use: Nearly eliminate interest rate risk; cash substitute; positioning for rising rates.

Opportunities: Duration near zero; the coupon rises with the money market.

Risks: The coupon falls when rates are cut; credit spread risk remains in full.

Typical mistake: Equating "no interest rate risk" with "no price risk"; spread widening depresses floaters too.

24 · Zero coupon bonds (zeros)

Definition: No running coupons; bought at a discount, redeemed at 100; the entire return sits in the price difference.

Use: Precise goal saving (amount X at date Y); maximum rate sensitivity per maturity for deliberate rates bets; liability matching.

Opportunities: No reinvestment risk on coupons; clear terminal value planning.

Risks: Highest duration of its maturity class; possibly ongoing taxation despite no payments.

Typical mistake: Underestimating duration; a 30y zero has a duration of ~30.

25 · Short-dated bonds (<3 years)

Definition: Remaining maturity under three years; duration ~0.5-2.5.

Use: Liquidity reserve with yield; parking position; protective allocation when a rate rise is expected; base of a bond ladder.

Opportunities: Low price fluctuation; fast reinvestment at new rates.

Risks: Reinvestment risk when rates fall; real return at times below inflation.

Typical mistake: Permanently "parking at the front" on an inverted curve and ignoring the later reinvestment at lower rates.

26 · Intermediate maturities (3-7 years)

Definition: Core segment of most bond portfolios; duration ~2.5-6.

Use: Best ratio of yield to interest rate risk; roll-down effect on a normal curve (the bond "slides" down the curve and gains).

Opportunities: Balanced profile; the most liquid corporate segments.

Risks: Neither maximum protection nor maximum rates upside; a deliberate middle path.

Typical mistake: Assuming roll-down also on a flat/inverted curve; the effect then disappears.

27 · Long-dated bonds (>10 years)

Definition: Remaining maturity from ten years; duration ~8 to over 20.

Use: Bet on falling rates (maximum price leverage); covering long-term liabilities (foundations, pension promises).

Opportunities: Large price gains when rates fall; long-term rate lock-in.

Risks: Massive price losses when rates rise; high inflation sensitivity; term premium not guaranteed.

Typical mistake: Seeing long-dated bonds as a "safe" permanent position instead of an active duration decision.

28 · Perpetuals (perpetual bonds)

Definition: No final maturity; the issuer has calls at fixed dates, often with a coupon reset afterwards.

Use: Yield pickup for maturity uncertainty; frequently in the subordinated/hybrid space (corporates, banks).

Opportunities: High running interest.

Risks: Extension risk (the call is skipped, the price falls); very high effective duration; often subordinated.

Typical mistake: Planning the first call date as the effective maturity.

29 · MBS/ABS (securitizations)

Definition: Payments come from a loan pool (mortgages for MBS, consumer/leasing loans for ABS); tranching by risk.

Use: Yield pickup and diversification; EU: mainly STS securitizations, USA: agency MBS as the liquid standard market.

Opportunities: Spread pickup; collateralized by real assets.

Risks: Prepayment risk (negative convexity in MBS); complexity; stress liquidity.

Typical mistake: Transferring US agency logic to European securitizations without scrutiny.

See also: 108 · Convexity

30 · US municipals

Definition: Bonds of US states/municipalities; interest often tax-exempt for US taxpayers.

Use: Primarily for US taxpayers; for German investors the tax advantage does not apply, mostly unattractive.

Opportunities: Solid credit quality of many issuers.

Risks: The tax logic does not apply to non-US investors; currency risk; distinct market conventions.

Typical mistake: Comparing muni yields with taxable yields without the tax effect.

31 · EM bonds hard currency

Definition: Emerging market bonds in USD/EUR; yield = base rate + country risk spread.

Use: Yield addition without direct currency risk; access to countries with weak local markets.

Opportunities: Attractive spread; broad universe (sovereigns + corporates).

Risks: Default/restructuring risk (e.g. Argentina); sensitivity to US rates and dollar strength.

Typical mistake: "no foreign currency = little risk"; credit risk is the real driver.

32 · EM bonds local currency

Definition: Emerging market bonds in local currency; return = local rate + currency movement.

Use: Participation in high local rates and possible appreciation; diversification of rate cycles.

Opportunities: High nominal yields; uncorrelated rate cycles.

Risks: Currency losses can erode the rate advantage; political risks; capital controls.

Typical mistake: Equating nominal yield with expected return; in the short run FX risk almost always dominates.

33 · Green/social/sustainability bonds

Definition: Proceeds earmarked for environmental/social projects (use of proceeds, ICMA principles); the credit risk remains that of the issuer.

Use: Implementing ESG requirements in the mandate; SFDR reporting capability.

Opportunities: Same credit quality as the issuer's conventional bonds; growing market.

Risks: "Greenium" (a somewhat lower yield); greenwashing debate.

Typical mistake: Classifying green bonds as safer on the credit side; the liability base is identical.

33a · Catastrophe bonds (cat bonds / ILS)

Definition: Bonds through which insurers/reinsurers transfer natural catastrophe risks (hurricane, earthquake, flood) to the capital market; if the defined event occurs (trigger), investors lose coupon and/or principal partly or entirely; the capital then flows to the insurer.

Use: A return source with very low correlation to equity and rates markets (natural events follow no business cycle); a diversification building block, in practice sensibly accessible only via specialist funds/ILS funds.

Opportunities: High coupons (money market + risk premium, mostly floater structure, hence little interest rate risk); genuine diversification; short maturities (3-5y).

Risks: Total loss risk in a major event; model risk (occurrence probabilities from catastrophe models); climate change can invalidate historical models; narrow secondary market.

Typical mistake: Confusing "uncorrelated" with "low-risk"; the loss distribution is extremely skewed: many good years, then a very bad one; single-name exposure instead of a broad ILS portfolio.

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